Let’s talk about annuities.

Annuities are financial assets. Individuals buy them from insurance companies for lump sums of cash. The insurance company then invests that money to provide agreed regular payouts for an agreed period of time. Annuities are best described as life insurance policies in reverse. With a term life insurance policy your benefactors receive the payout in the event of your death. With annuities you receive the payouts in the event of your extended life and to the end of your life. The size of the payouts and the term over which they are paid are the two key parts of an annuity contract. Annuities are a gamble, where you win if you exceed your life expectancy and lose if you die earlier than your expected life span. The tax due on any investment earnings in your annuity are deferred until the payouts are made and this gives them the potential to become higher growth investments, versus having tax taken out before your money is invested.

Annuities can be had with a fixed interest rate on earnings or a variable one. You can buy a single-premium annuity, where the investment is made in a lump sum. The minimum investment is normally $5,000 or $10,000. With a flexible-premium annuity it is funded with a series of payments. The first payment can be relatively small. Immediate annuities begin paying out as soon as the annuity is funded.

On the plus side annuities can be a good source of income in retirement because they grow more quickly with tax deferred earnings but on the downside you pay for them out of income that has already been taxed. They are good if you want to save money more rapidly for some known future spending or if you want a planned guaranteed income stream when you stop working.

One drawback with an annuity is that if you withdraw your money during the contract period you will incur taxes and early withdrawal penalties. The IRS puts a 10% premature-withdrawal penalty on any cash you take out of your annuity before age 59 and half years. Insurance companies also charge penalties on withdrawals made before the term of the annuity is up. These penalties are called “surrender charges” and they usually apply for the first seven years of the annuity contract. Because of these drawbacks annuities are not the best way to invest your money for growth.

You can trade your annuity as with any other financial asset. The usual way is to find a company that has experience and available cash to buy your annuity. You will not get anywhere near the full face value of your annuity. An alternate way to sell is directly to another individual. The contract is complex but possible and expensive with legal fees attached. Annuities can be transferred to other beneficiaries.